Nov 9, 2017

Tapering? Split-up of Spain? Events in Europe and their Impact


Europe, the continent that has rocked the global financial markets with debt crisis and a Brexit has been relatively quiet on the financial front in the past few months. However, there are 2 significant significant developments that warrant the attention of investors. Here are some of the newsworthy events which we should watch out for:

Implications of EU tapering of QE

The EU central bank initiated their Quantitative Easing (QE) program in 2009 and since than, the EU economy has recovered sufficiently to warrant the EU central bank to start tapering back on the QE program. The tapering involves decreasing the amount of monthly bond purchase until it reaches zero. The last time US Federal Reserves started tapering in 2014, the emerging market currencies and stock markets suffered a major correction. The good news is that the EU tapering will be slow and gradual and expected to end and is expected only to end in Q4 of 2018. Further more, Emerging markets' debt are mainly denominated in USD and the EU tapering will not have an direct impact on their finances. The countries which were badly affected during the last taper tantrum such as Indonesia and Malaysia have clean up a good portion of their foreign debt and are at lower risk right now.

The implications will be much more indirect as the easy money has resulted in governments within the EU region to slow their reforms towards their spending and any tapering will create a strain on governments with weaker balance sheets such as Italy and Spain. Further more, with both US and China tightening their money supply, the likely candidates that will hurt from the tapering will be the weaker EU countries and their weakness may be felt in the global stock market again.

The more obvious impact which we will feel immediately is the strength of the Euro as tighter monetary policies tend to strengthen a nation's currencies. However, the speed of tightening will be slow and probably match the speed of the US counterparts, which will help to maintain an equilibrium among major currencies. Hence Euro is expected to fluctuate around a range, with the trend of a weakening Euro broken, since the outbreak of the EU financial crisis.

Catalonia Independence

One of the richest states in Spain, Catalonia with its capital in Barcelona, has declared independence. The stock market did not react much despite all the negative press. The market has assumed that the independence movement will not succeed and base on the recent developments, seem to be holding true. So, we can discount this political upheaval for now and the bigger issue of Brexit will come back to haunt the European markets again.

What's Next

The tapering of the monetary policies is a signal that the EU zone's recovery is picking up steam and the stock market should benefit over the next few years. However, the European equities have rallied strongly ever since the Brexit crisis last year and hasn't corrected significantly. Furthermore, the prospect of a fragmented EU will still produce geopolitical shocks every now and than, so it may be prudent to pick up some good quality EU equities every time such events occur.

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